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Below is a summary of the issues considered in the Lehman’s “client money” decision handed down by the Supreme Court on 29 February 2012. The full judgment can be found at www.supremecourt.gov.uk/. Please note that this summary is intended to provide customers of MF Global UK with general information regarding the recent judgment and does not constitute legal advice.

We set out the Special Administrators current views as to how the Lehman’s “client money” judgment may effect the special administration of the MF Global UK, including how it may impact on the client money pool and the distribution of client money. In that context, please note that whilst the judgment is likely to substantially reduce the percentage payout from the client money pool (because the money in that pool will now need to be shared amongst a much larger number of claimants), at present, the Special Administrators believe that their distribution model adequately reserved for the eventualities of this judgment so that the interim distributions made to date can withstand this outcome. In particular, there is no requirement to change the current client money interim distribution rate of 26%.

The Special Administrators, together with their legal advisors continue to consider actively the implications of this judgment on the special administration of MF Global UK and they will keep you informed as to how this may affect your claim.

Issues before the Supreme Court in the Lehman’s “client money” case:

Trust on Receipt: In the case of a firm which operated the alternative approach to segregation of client money, did the statutory trust arise on receipt of funds into the firm’s own house accounts, or did it arise only on segregation of the funds?

Contents of the client money pool (the “CMP”): Did the client money pool, upon the date of the primary pooling event (a “PPE”), comprise only client money in the segregated client bank and transaction accounts or did it also include client money held in any of the firm’s house accounts?

Client entitled to claim from the CMP: Are the claimants on the client money pool confined to those for whom the firm had in fact segregated client money or do they include all clients with a client money entitlement as at the PPE, whether or not the firm segregated any money for them?

Background

The background to the Supreme Court’s decision was an application brought by the administrators of Lehman Brothers Holdings International (“LBIE”) for directions regarding the interpretation of the “client money rules” and “client money distribution rules” contained in Chapter 7 of the Client Assets Sourcebook (“CASS 7”) issued by the Financial Services Authority.

These rules created a statutory trust under which investment firms, such as LBIE, held client money on behalf of clients.

The administrators of LBIE sought directions regarding the interpretation of CASS 7, in order to enable them to identify the relevant beneficiaries of the statutory trust of client money held by LBIE and to distribute such client money to those beneficiaries.

First issue: Trust on Receipt

The Supreme Court unanimously upheld the decision of the Court of Appeal and of Briggs J on this issue. Accordingly, the statutory trust attaches to all client money in the firm’s house accounts from the moment it is received.

This issue was not one which affected MF Global UK because MF Global UK adopted the normal approach to segregation of client money.

Second issue – contents of the CMP

The Supreme Court, by a 3:2 majority, decided that the client money pool consists of all client money identifiable in any account of the firm into which client money has been received (and is not limited, therefore, to client money in the firm’s segregated accounts).

The Supreme Court’s judgment appears to leave open the question of whether client transaction accounts are included in the client money pool and how client money is to be identified in the firm’s own accounts and whether it is possible to trace into other assets acquired by the firm.

Third issue – clients entitled to claim against the pool

The Supreme Court, by a 3:2 majority, concluded that the client money pool should be distributed to all clients in accordance with their objective contractual entitlement to have client money segregated for them as at the date of pooling.

The Supreme Court judgment appears to leave open what is meant by the “contractual entitlement” of clients in respect of client money.

Implications for the Special Administration of MF Global UK

The result of the Lehman’s judgment means that the Special Administrators will need to:

conduct a detailed and thorough regulatory and legal analysis of each client’s position, to establish if they may have a contractual entitlement to client money and so should have a segregated client money claim: the result of this analysis is likely to increase the number of claimants to the client money pool and so dilute the distribution between them; and

conduct a forensic analysis into MF Global UK’s own bank accounts and potentially extend this to other assets acquired by the firm using funds from those accounts: the result of this analysis may increase the size of the client money pool and as a consequence there may be a decrease in the size of the general asset pool available for unsecured creditors.

Resolution of the above issues may also require that the Special Administrators apply to the courts for further directions in respect of certain issues which remain unresolved following the judgment and which are relevant to conducting the analysis set out above. The Special Administrators regret that this work is likely to add delay to any further distributions of client money and of general assets other than the one that has already been announced.

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